As Japan celebrates the first anniversary of Prime Minister Shinzo Abe’s second innings, efforts are on to analyze the impacts of his three-pronged arrow strategy (widely coined as "Abenomics") on the overall economy. Whether Abe has been successful in reviving a sluggish economy that was plagued by two decades of deflationary pressures is debatable. However, what he has achieved without doubt is waking the third largest global economy up from a slumber through some definite pro-growth policies.
It is also worth noting that archrival China, the second biggest economy in the world, has already pushed for reforms as it tries to steer away from an investment-led growth to a consumption-driven economy. In addition to societal changes that relaxed the one-child policy to support an aging population, China liberalized the labor market by allowing the free movement of labor and encouraging urbanization. At the same time, the communist country offered greater freedom to farmers and stepped up financial reforms to allow markets to play a decisive role in resource allocation.
Thus, with both China and Japan vying to match their economic prowess with leading roles in world diplomacy and capitalize on a rapidly changing regional power balance, we wonder if the time is ripe for Abenomics to deliver. Before we dig deeper into this argument, let us have a recap of the various turn of events.
The Japanese economy had been in a pause mode for over a decade as the average growth rate from 1993 to 2003 was just above a paltry 1%. In addition, the inflation rate (either measured by GDP deflator or CPI) has been negative since 1998. Consequently, with virtually zero growth rate and deflationary pressures, the Japanese nominal GDP shrunk by 4% from 1997 to 2002, while that of the U.S. increased by 25%.
The downturn was primarily attributable to an asset bubble and non-performing loans. Sluggish policy responses and structural reforms to ease the situation further compounded the agony of the beleaguered economy.
The financial crisis in 2008 that started from the bankruptcy of Lehman Brothers and snowballed into the Great Recession in the U.S. further shook Japan and destabilized the economy as it was largely depended on exports to its North American and European counterparts. The three-month period from October to December 2008 saw the Japanese economy plunge by 12.4% on an annualized basis. This followed another dismal performance in the following quarter as the economy shrank 15.0% -- the impact being far worse than that in the U.S., which was the epicenter of the crisis.
In about a year from Nov 2008 to Oct 2009, Japan’s exports dropped 37% a month on an average. The fall in exports was further aggravated by the sharp rise in the yen as investors began to park their money in higher-yielding instruments in other currencies. This resulted in Japan losing the coveted second-largest economy position to China and the geo-political scenario began to take a new shape.
The Advent of Abenomics and Its Scorecard
Under such precarious conditions, when Abe returned to power after his first stint in 2007, he took a set of policy measures and devised a three-arrow strategy to resolve Japan’s economic woes. These included quantitative easing (:QE) to the tune of $50 billion-$60 billion a month, fiscal policies, and structural reforms to spur private investments. Abenomics specifically targeted an annual inflation rate of 2%, an appreciation of the yen vis-à-vis other leading currencies like the U.S. dollar, negative interest rates, fixing the labor market, and expansion of public investments.
The first year scorecard has yielded some positive results for Abenomics with the Tokyo stock market spiraling upward by 65% since last fall, yen dropping about 25% to boost exports, and GDP expanding at an annualized rate of 3.8% in the second quarter of 2013. Core CPI (Consumer Price Index) increased 0.9% in October this year – the highest since Nov 2008.
Even prices of durable goods in Tokyo increased for the first time in two decades in November, implying a rise in consumer appetite for high-end consumer goods and signaling a probable revival of the economy. Exports were gradually picking up while job market was improving as automobile majors like Toyota Motor Corp. (TM) and Nissan Motor Co. Ltd. (NSANY) went on a hiring spree.
On the flip side, Japan’s GDP halved in the third quarter to an annualized rate of 1.9% as it faced a comparatively weaker demand from emerging markets. Experts also argued that Abe has missed the trick by not implementing a single structural reform to address the woes of the labor market that is besieged by a graying population.
An aging society implies labor shortages, reduced product portfolio across the demographics, and rise in pension costs and other welfare schemes for the swelling ranks of retirees. In addition, the workforce is also skewed toward male, while women remain marginalized.
An ambitious plan to raise sales tax of consumer goods from 5% to 8% in Apr 2014 to cure deflationary pressures also remains a potential problem. Unless the labor market is perfectly balanced with a younger generation that has more appetite for consumption and real wages improve, consumer spending is unlikely to move up.
An anemic 0.1% increase in consumer spending (which accounts for 60% of GDP) in the third quarter has further added to this argument. Abe intends to pump in 18.6 trillion yen ($181 billion) to counter the impact of a sales-tax bump in April. Only time will tell whether that is enough to be a ‘cure for all’ without any concrete structural reform policy.
3 Japanese Stocks to Buy Now
Despite the hoopla surrounding Abenomics, the Japanese equity basket holds certain stocks with attractive valuation metrics and solid Zacks Rank. Let’s take a closer look at these companies that appear to be well positioned to benefit from the solid sector dynamics.
Kyocera Corp. (KYO): Headquartered in Kyoto, Japan, Kyocera manufactures, sells, and distributes industrial components, and telecommunications and information equipment across the globe. Kyocera has expanded its business by effectively developing and applying its ceramics technologies to materials, components and finished products that are used in virtually all fields of the industry. This Zacks Rank #1 (Strong Buy) stock is currently trading at a forward P/E of 21.5x with a long-term earnings expectation of 25.9%.
Honda Motor Co., Ltd. (HMC): Based in Tokyo, Honda manufactures and sells motorcycles, automobiles, and power products through independent retail dealers, outlets, and authorized dealerships primarily in Japan, North America, Europe, and Asia. Honda produces over 25 million engines annually for its three product lines in more than 60 manufacturing plants in 27 countries, employing more than 179,000 associates globally. This Zacks Rank #2 (Buy) stock is trading at a forward P/E of 12.1x and has a long-term earnings expectation of 28.4%.
Sumitomo Mitsui Financial Group, Inc. (SMFG): Headquartered in Tokyo, Sumitomo Mitsui offers various worldwide banking and financial products and services. With more than 1,550 branches in Japan and over 50 affiliate companies globally, Sumitomo Mitsui is one of the largest financial institutes in the world. This Zacks Rank #2 stock is currently trading at a forward P/E of 8.9x.
Don’t Miss These Golden Geese
The Japanese equity market, quite similar to the global markets, is perhaps currently passing through its stage of maturity and the euphoria is likely to continue in the short term. As such, this is probably the most opportune time to own such high-potential Japanese stocks with strong fundamentals that pledge a healthy ROI.
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